The present invention relates to a computerized method of financial risk management. In particular, the present invention relates to a system and method for utilizing collateral for credit risk mitigation and capital preservation through leverage margin monitoring and management (LM3).
A credit risk is the danger that one party will not receive an amount of money it is owed to it by a counterparty because the counterparty defaults on a payment. A credit risk can exist, for example, in a financial relationship involving loans, repurchase agreements, suretyship, derivative transactions, and any situation where a counterparty has an obligation to make payments at a later date. A credit risk can also be associated with a transaction for goods or services, such as an e-commerce transaction. A party supplying a good or service can be at risk until payment is received for the good or service supplied.
In the financial markets, a credit risk is the probability of a counterparty defaulting on its payment obligations to a trading institution. Typically, a credit risk increases as the period of time, which must elapse to reach a calendar date of expected payment increases. Logic applied, holds that a longer period of time increases the possibility of an event transpiring that may cause the inability of the counter party to make payment. Evolving market systems for financial transactions, including the use of computer systems to reach global markets, have placed pressure on traditional trading paradigms. Dealers increasingly desire to free credit lines with existing customers and expand their range of corporate counterparties. Customers often desire to invest with a maximum amount of leverage.
In general, leveraging can include speculating via a business investment through the use of borrowed funds or purchased credit. Standard securities industry leveraging practices can be viewed as a process that compounds a risk. More specifically, leveraging practices can be any process that increases exposure to a source of risk.
Within the field of financial risk management, collateral management leveraging practices include accumulating and deciphering aggregated information representing a counterparty's overall financial standing within a market segment. Aggregated market segment information is used to monitor and measure relative exposure thresholds and the actual value of tangible collateral submitted to custodians by counterparties. Collective information can be used to determine optimal strategies for trading within a market segment including the most effective use of collateral and existing market positions.
In light of the reality that risk is mitigated only to the extent that a counterparty does not default at a time when the collateral has no retained value, appropriate collateral should be selected to offset a particular risk, and the value of the collateral should be regularly calculated in relation to the risk. It would be useful therefore to have an aggregate of collateral associated with a counterparty calculated an applied to offset the risk associated with that counterparty.